Taxes on California Employers and Employees Going Even Higher

Although California employers already pay some of the highest taxes in the nation, they will face an even higher tax burden later this year. So will their employees.

California’s Loan Default Will Cause Higher Employer Taxes

In January 2012, California employers were hit with a federal employment tax increase when they became subject to a 0.3 percent Federal Unemployment Tax Act (FUTA) tax credit reduction. In January of this year, that credit reduction went up to 0.6 percent. California employers also will be subject to a 0.9 percent FUTA credit reduction, starting in 2014, if no changes are made to the state’s unemployment insurance (UI) financing structure. The tax increases will continue until California employers are left with no FUTA credit, paying the full 6 percent FUTA tax rate, according to the Employment Development Department (EDD). These federal employment tax increases are the result of California’s default on its loan from the federal government used to pay UI benefits.

FUTA levies a federal tax on employers covered by a state’s UI program. The standard FUTA tax rate is 6 percent on the first $7,000 of wages subject to FUTA. Generally, however, employers may receive a credit of 5.4 percent when they file their annual FUTA tax return, to result in a net FUTA tax rate of 0.6 percent (6 percent minus 5.4 percent). However, the state’s default on its federal loan has triggered a chipping away at that credit. For example, for the 2012 tax year, the federal employment tax increase equates to a FUTA tax rate of 1.2 percent, or up to a maximum of $84 (1.2 percent times $7,000), for every employee who made at least $7,000 in 2012.

California's UI Fund has a projected deficit of $10.2 billion by the end of 2013 and $9.2 billion by the end of 2014, according to the EDD’s October 2012 UI Fund Forecast. As of March 6, California owed $10.8 billion. (The next highest loan is held by New York, at $3.8 billion.) This borrowing has been going on for more than three years, and as long as an outstanding federal loan balance remains, California employers get stuck with the loan repayment, in the form of the annual per-employee tax increase.

Employee Tax Increases Predicted

California employees can expect their state disability insurance (DI), which is deducted from their wages, to increase next year. The DI program provides benefits to workers who are unable to work due to pregnancy or a non-work-related illness or injury.

The SDI rate is at 1 percent for both 2012 and 2013, although the maximum wage base and maximum payment increased from $95,585 to $100,880, and the maximum payment increased from $995.85 to $1008.80. However, according to the EDD’s October 2012 DI Fund Forecast, the department expects to increase employees’ SDI contribution rate to 1.2 percent for 2014, with a maximum wage base of $102,960, and a maximum payment of $1,235.52 (the EDD will confirm the rate in November).

Unlike the UI Fund, the DI Fund is solvent, with a projected balance of $2.3 billion by the end of 2013, and $3.5 billion by the end of 2014. These fund balance figures do not take into consideration the loan that the fund made to the state general fund ($303.5 million in September 2011, for payment of the interest due on the federal UI Fund loan noted above), nor the $308.2 million loan for the interest payment in September 2012. The 2011 and 2012 loans are required under the law to be repaid, with interest, within five fiscal years, and it is anticipated that any additional loan in 2013 would be subject to the same condition.

Federal Payroll Tax Holiday

In January, employees across the nation lost their federal “payroll tax holiday” when, after two years, Congress failed to extend it. So, every employee’s share of FICA withholding on wages increased from 4.2 percent to 6.2 percent (the level that existed prior to the holiday). This equates to an annual federal employment tax increase of approximately $2,000 on every wage earner (a similar increase applies to self-employed individuals).

(CalTax: This article does not address any of the upcoming new taxes and fees related to the federal Health Care for America Plan.)